Another Approach

September 19, 2015

In most businesses money is invested in inventory, equipment, and personnel.   The expectation is that the combination of these components will create a product which will be valued in the marketplace at a dollar figure greater than the total dollars required to cover all associated costs. That difference is profit. It is created by the value added to the raw materials by the ideas and effort of the individuals who comprise the company. This is how a business makes money, and how a market economy grows.

My background is in the retail business with a major east coast department store. In the retail trade, each category of merchandise has a person known as a Buyer who is entrusted with a finite amount of money with which to purchase merchandise. These goods are bought at wholesale prices and used to stock the selling floor. When customers enter the store and purchase those items at regular price, the store makes a predetermined markup (profit percentage) on those goods. When goods are not sold during the normal selling season they are marked down and sold at a lesser price, and a lesser profit percentage.

In order to have money available to buy new goods as the year progresses the Buyer must have sold enough merchandise from previous purchases, to fund the new purchases. This is known as “Open to Buy” (OTB). The idea is to buy merchandise that sells quickly at full price, in order to have that money available to buy more merchandise. If all goes well, those goods will in turn sell quickly, at full price.   Do that repeatedly over a year’s time, and the money appreciates many times by the predetermined profit margin.

Our system functions in a very similar way. Instead of buying men’s crew neck sweaters, or women’s terry cloth robes, we buy equal amounts of selected stocks. We buy these stocks with the expectation that they will be sold quickly at the established profit margin of 20%. These sales fund the purchase of more stocks, which also should appreciate quickly to 20%.   The same money is cycled through the system again and again to appreciate by 20% as many times as possible over a given year.

This is a rather revolutionary concept to many investors. The standard procedure when investing has been to buy stocks that you think will rise in value, and hold those stocks. Ego being what it is, stocks are often held way longer than they should be.   Investors watch them drop, but wait hopefully and anxiously for them to recover, and rise triumphant, and prove the investor was right all along. Too often that recovery never comes. In the retail environment, a smart Buyer will mark down poor performers quickly and sell them at a reduced price in order to return the money invested to the OTB. In our scenario, we don’t wait beyond a 10% drop in value to sell. This limits our losses and frees up dollars for the next months purchases. Conversely, we take our established profit at 20% as soon as it is reached. This returns the profit dollars plus the original investment to the OTB, funding a new round of purchases with another opportunity to earn 20%.